Cutting off your nose to spite your face: the divestment debate
One of the hottest topics of the current investment climate in many circles is divestment. Passionate advocates regularly agitate for a group of companies, referred to as the Carbon Underground 200 (CU200), to be divested from investment solutions. The intent is to stop the environmental damage caused by fossil fuels and ensure that the Paris Agreement is met. The divestment movement is focussed on divestment of coal and oil and gas companies that hold reserves1. Unfortunately, what this exclusionary strategy does not capture is the companies’ strategies regarding their reserves, and /or any changes to their operating models that reflect the energy transition.
I applaud and respect the effort and passion that is driving this movement, at a time when global governments, industry, asset owners and investment groups are committing to better management of climate change. But I question the impact and outcome of this very simple message – divest from the CU200 – and propose that there are other considerations that need to be made to achieve an optimal environmental and economic outcome for investors.
Divestment campaigns have been very successful at significantly raising awareness of the very real and immediate threat of climate change. Beyond awareness though, divestment will not help to address the issue of climate change in any meaningful way. It may help to stimulate conversation on energy policy, locally and globally, and promote social change, but in terms of direct impact, we have determined that this strategy has minimal impact on carbon footprint.
Russell Investments has conducted research on divestment of CU200 from a global equity portfolio (using a MSCI World Index) and have identified that it results in a meagre 6% reduction in carbon footprint. The research also found that by divesting from the oil and gas industry, there was a significant decrease in exposure to the renewable energy sector.
Fossil fuels have a meaningful impact on the CO2 emissions we produce, and understanding the management of future reserves by industry will be critical to achieving the 2-degree scenario we, as a global community, are committed to. With climate change risk now recognised widely as a potential financial risk, it makes sense to be looking at reducing the risk held in investment portfolios.
At Russell Investments, we believe that one of the largest risk surrounding climate change is within the coal sector, as the largest emitters and with the least ability to significantly innovate to tackle the environmental issues with the use of coal. Coal has the highest carbon content of all fossil fuels and produces the highest CO2 emissions per heating unit produced. Coal, therefore, contributes disproportionately to climate change and as such is the most vulnerable to the economic impact of the energy transition which is seeing a significant shift away from traditional fossil fuel energy generation, to more renewable sources.
In contrast to most companies within the coal sector, major oil and gas companies have recognised the changing global energy transition, and diversified their business, increasingly investing in renewable energy to expand their product range and ensure their long-term sustainability. If oil and gas companies commit to a 2-degree scenario, then many of the proven reserves they hold are likely to remain undeveloped. They know this and rising to the challenge this creates for their industry, many have been investing in alternative energy sources. Some notable examples are Total – acquiring Saft (battery storage) and owning stakes in SunPower and other solar businesses. Shell created a green energy business to invest significantly in wind in 2016, stating they want to be a part of the energy transition in the countries in which they operate. Shell are committed to $1billion+ per year in investment to facilitate this.
Individually and collaboratively, the energy sector is determining new ways to support energy supplies in the future and is a significant investor in the new technologies and infrastructure that will transition us to a low carbon economy.
Environmentally, the divestment argument may stack up, i.e. starving an industry of investor capital to punish them for reserves that have been publicly valued. But if these same companies are the investors in our future energy world and are aligned in our commitment to reducing carbon emissions, do we not embrace the potential of this significant collaboration?
Divesting from these companies and the oil and gas industry more broadly, is like cutting off your nose to spite your face. Owning these companies gives us an active voice to help shape the future and a world we all want to live in.1Also referred to as stranded assets